JPMorgan's Dimon put in a rough spot

Jamie Dimon, arguably the nation's most powerful banker, has navigated intense scrutiny from Congress, the White House and regulators around the globe.

But it's a federal prosecutor in Sacramento, far from the world's financial and political capitals, who pinned the chairman of JPMorgan Chase & Co. to the wall.

U.S. Atty. Benjamin B. Wagner led the investigators who forced JPMorgan into talks now widely expected to produce a $13-billion settlement of fraud allegations. His team delivered key evidence revealing how JPMorgan misled investors while peddling bonds backed by subprime and "liar" loans from the housing bubble.

Wagner's probe posed an additional threat that Dimon could not afford to ignore: criminal charges against the bank. Beyond fines and settlements, a conviction could batter the bank's business, sending institutional investors fleeing to competitors.

The Sacramento mortgage fraud team had grown organically from the Central Valley, at one point home to five of the 10 cities with the nation's highest foreclosure rates. The office launched a mortgage fraud task force in 2007, as the bottom fell out of home prices that had been inflated by Wall Street chicanery.

"The Valley was ground zero for the mortgage fraud meltdown," said McGregor Scott, the U.S. attorney who preceded Wagner and launched the task force.

The team started small and local, targeting foreclosure-rescue scams and real estate insiders who ripped off lenders. In 2009, when Atty. Gen. Eric Holder called on prosecutors across the country to join Washington- and New York-based mortgage fraud probes, Wagner raised his hand. He was named co-chair of the department's Mortgage Fraud Working Group and would end up heading the JPMorgan probe.

"We sort of stepped up and volunteered," he said.

On Sept. 23, Wagner boarded a plane for Washington, headed for a Justice Department news conference to announce his office would file a civil lawsuit against the nation's largest bank. Charts were created to explain the financial alchemy used to turn subprime loans into supposedly high-quality securities. One-hundred copies of the JPMorgan suit had been printed for reporters.

Then Dimon blinked. He made an eleventh-hour call to the Justice Department offering to reopen settlement talks.

The impending deal marks a stunning comeuppance for a firm once seen as a white knight of the financial crisis. JPMorgan, at the urging of top U.S. regulators, had swallowed collapsing firms such as Washington Mutual and Bear Stearns in emergency acquisitions.

Dimon has since explained away many fraud allegations against JPMorgan as the inherited problems of lesser banks. But the allegations underpinning Wagner's case involve JPMorgan alone, operating at the height of the housing boom, packaging high-risk loans into securities that would later go sour.

Buyers of the bonds included the California Public Employees' Retirement System, the nation's largest pension fund, which says it handed JPMorgan $376 million for securities that would later plummet in value. JPMorgan, the government alleges, had neglected to tell investors just how shaky the underlying home loans were.

The threat of a Sacramento-based criminal prosecution — which could still proceed — played a crucial role in the negotiations for civil penalties. Billionaire investor Warren Buffett sized up the threat to a financial firm earlier this week.

"You have no ability to negotiate," he said Tuesday on Bloomberg Television. "Basically, you've got to be like a wolf that bares its throat, you know, when it gets to the end. You cannot win."

Appointed as a U.S. attorney by President Obama in November 2009, Wagner oversees federal law enforcement in the Eastern District of California from a 16-story citadel. Fortified against terrorists after the 1995 bombing of the Oklahoma City federal building, it opened in Sacramento in 1999.

Such high-profile corporate probes might more typically be handled by the U.S. attorney's office in Manhattan, or perhaps higher-profile California offices.

"We tend to be overshadowed by Los Angeles and San Francisco," Wagner said. "But this is a big office, and a sophisticated one."

The office employs 85 lawyers, mostly in Sacramento and Fresno. That compares with about 250 lawyers in the Central District of California, which has offices in Los Angeles, Santa Ana and Riverside. But numbers don't tell the whole story, Wagner said.

"One advantage is we tend to have less turnover than L.A.," he said. "We have a quite a cadre of experienced prosecutors."

The office has handled its share of high-profile cases. It was involved in the investigation of Theodore Kaczynski, who pleaded guilty in 1998 to the two-decade Unabomber spree that injured 23 people and killed three, including a timber industry lobbyist in Sacramento.

In the late 1980s, the office created a phony shrimp processing plant and used a Gulf Coast FBI agent to pose as a corrupt businessman offering cash bribes for passage of a special interest bill. The "Shrimp Scam" sting ended in the convictions of 12 public officials, including California legislators.

While the office is not particularly known for white-collar prosecutions, Wagner said that has always been among his priorities. After getting his law degree from New York University in 1986, he spent five years at the Wall Street firm Cahill, Gordon & Reindell, working on financial cases that included securities fraud. At the Eastern District, from 2000 through 2009, he headed a special prosecutions unit that took on corporate fraud and tax evasion, along with public corruption and cybercrimes.

Equally motivating was how the mortgage crisis devastated his district. It includes the most productive farmland in the country, though its 7 million inhabitants live mostly near the urban centers of Sacramento, Fresno, Bakersfield, Stockton, Vallejo and Fairfield.

During the boom, families flocked to the Valley, buying new homes that gobbled farmland by the acre. The Central Valley's promise was simple: more space, a cheaper house and a family-friendly atmosphere.

That promise quickly soured. As the mortgage meltdown gripped Wall Street, prices tumbled and legions became saddled with bad debt, dimming the dream — promised in one town's motto — of a "bright future."

In Sacramento County, the median home price peaked at $387,000 in August 2005, then tumbled 60.5% to $152,750 in January 2012. In San Joaquin County, prices fell 67.7%, according to research firm DataQuick. From January 2008 to September of this year, more than 96,000 homes were lost to foreclosure in the two counties, according to research firm DataQuick.

As Wall Street awaits final word on the tentative $13-billion settlement, Wagner continues to pursue his criminal investigation of JPMorgan.

The bank had hoped to forestall any criminal prosecution as a condition of accepting massive civil penalties. But the Justice Department refused, according to a person briefed on the negotiations who was not authorized to speak publicly. JPMorgan walked away from the talks — only to return hours before the planned Department of Justice news conference.

In talks with the bank, Holder told JPMorgan that absolving the bank of any criminal liability would be a non-starter, said the person briefed on the negotiations. In an important twist, the civil settlement is expected to require non-criminal admissions of wrongdoing by JPMorgan.

A criminal prosecution would mark a "clear shift in attitude" at the Justice Department, said John Coffee, a securities law expert at Columbia University. Just months ago, the department caught heat for going easy on big Wall Street firms.

But if no top executives get charged, the federal government may miss an opportunity to satisfy public outrage and avert future misdeeds, said Arthur Wilmarth Jr., a law professor at George Washington University who advised the Financial Crisis Inquiry Commission.

"One has to wonder how much deterrence there is if senior officials are not held responsible," he said.